Hello, and welcome to the Life By Design podcast, brought to you by Strategic.

This podcast is all about helping you live your great life.

Hello, and welcome back to the Life By Design podcast.

Joining me once again is Aaron Evans, certified financial planner, senior advisor and partner here at Strategic.

Hey, Jay.

Good to have you back, Aaron.

Today's topic is going to be about RMDs.

Required minimum distributions.

Which is very important.

Very important.

It comes into play in almost every plan that we put together for our clients.

Yeah, and I think this is something I like talking about when we talk about retirement, not just RMDs, but, uh, taxes are a thing that come up—Sure.

Uh, not only for your, whatever your savings vehicle was, but also for Social Security.

Like, there's a lot of taxes that I think a lot of us go, "Oh, when I'm retired, I'm gonna be done with that."

Yeah.

And the answer is, no, you won't be.

Yeah, you see a lot of content and a lot of people focus on, "Okay, where do I put my money today?

How do I invest it?"

And then there's an entire world of planning and strategy around, "How do I get it back out in the most optimal fashion?"

And a lot of that has to do with taxes.

Yeah.

And that's where this concept of required minimum distributions also comes into play.

So let's just start at the top.

Yeah.

Why does the IRS require them?

All right, so require—Why are they required?

Yeah.

Yeah.

Required minimum distributions are required by the IRS.

These are for accounts where you have put money away and invested it pre-tax, so you have not yet paid tax on these dollars, and eventually the IRS says, "Well, the gig's up.

You have to, at some point, start making ta-, uh, paying taxes."

Mm-hmm.

So what they do is they force distributions out of those accounts at a certain point in time, and again, with the goal of them grabbing some of that tax, uh, revenue for those assets.

So at some point, you're gonna pay taxes, either now or later.

In this case, you're paying them later, and they're gonna force your hand if you don't do it, uh, earlier than that point.

Yeah.

And so what a—what's kind of—

the threshold for the age for that?

Yeah, so the way the rule has been set up for when these required distributions start, again, for those accounts where you've put money away pre-tax—Mm-hmm.

Uh, it used to be 70 and a half years old.

Excuse me.

The most recent legislation bumped that, uh, went, sorry, it went to 72, and then the most recent regi- legislation put that out to age 73, unless you were born after 1960, and now it's all the way out to 75.

So they've given a little relief in terms of the starting point for those required distributions.

But most people were probably familiar with that 70 and a half, and now—Mm-hmm.

Uh, most of the people we're meeting with at this point are, are around that 73 age.

Yeah, and so, like, when you talk about, you know, your annual RMD amount, life expectancy, how are we, how are we looking at all of that now?

Sure.

So when those required minimum distributions start, there's actually a pretty straightforward formula that tells you what the required amount is, um, and we'll get into what accounts—Mm-hmm.

We have to do this for, but the formula's pretty simple.

It takes the year-end balance of those accounts that are applicable for RMDs, and it divides them by a factor which is a, a standard table of, of, um, figures based on life expectancy.

So most people will use something called the uniform table.

Uh, there is also a special table that you have to accelerate a little bit faster if your spouse is, uh, more than 10 years younger than you.

Mm-hmm.

And then there's an, a different table that factors in for, um, people who inherit some of these accounts from their parents or elsewhere.

Okay.

Uh, yeah, and so when we're looking at that, uh, what

I guess the next question was like, so what's the first, the date of the first RMD?

Yeah, so that's a good question.

So we talked about most people right now, those, uh, RMDs are coming to play at age 73.

Mm-hmm.

The IRS guidelines do give you a, a little relief in the first year, where typically you would have until the end of the year, uh, every year you have, uh, an RMD applicable to your accounts to make that distribution.

So every year, you look up the prior year's balance from 12/31, you divide by the factor in the table corresponding to your age, and now you have your amount that you must take throughout the next calendar year.

Okay.

Um, in that first year, they do give you a little relief.

You have until April 1st of the following year.

I think that's probably because most people are just figuring this out—Mm-hmm.

Or may not have, um, realized that they were, they had an RMD due, uh, so they give you a re- a little relief in that first year where you have past the end of the year into April 1st of the following year.

But if you do that, you will also have a second RMD due that year, because again, you deferred the first year and now you have 2 due in that second year.

Okay.

And so just so I can comprehend it and, like, understand, take it, walk it back for a second—Yeah.

It's a dollar amount they're requiring you to take that they will then tax?

It is reported, uh, as taxable income, as a distribution from, again, we'll talk about the account structure, but—Yeah.

Think about an IRA or pre-tax asset like a 401.

Uh, you will get a 1099-R showing that you made a taxable distribution from those accounts.

The, most of the planning we do will involve accounting for the fact that that is gonna be taxable, and typically withholding taxes for our clients.

But yes, it will be reported as taxable income to the IRS and, and part of your tax returns when you file.

If you're doing proper planning, most people will withhold taxes to make sure they don't get hit—Right.

With a big tax penalty or, or, something on their tax return.

Mm-hmm.

And didn't realize that they made those taxable distributions.

Oh, that makes sense.

Yeah.

Okay.

And so, okay, so now I think we can kind of probably dive into the

What retirement, uh, vehicles or accounts are subject to RMDs.

Yeah.

So think about, we talked about this on a previous podcast, where we talked about all the vehicles to save in a pre-tax nature.

Uh, most common are gonna be those 401K plans through your employer, an individual retirement account, an IRA.

Uh, you might have a 403B depending on what type of employer you have, or something like a SEP-IRA if you're a small business or own your own company.

So any of those accounts where you've put money away pre-tax, uh, are gonna be applicable for these RMDs.

So you wanna make sure you understand what accounts you have, if you have those types and other types, and, um, know that they, those will be applicable.

Uh, you will see also the rules around consolidating some of those accounts, uh, for RMD purposes.

If I have say 2 IRAs, I can combine them for purposes of calculating the RMD from my IRA.

Mm-hmm.

So if I had one at a certain brokerage and one at a different place, I can combine them and take the entire amount from one account.

Uh, the tricky part is you can't combine all of the accounts together.

So if you still have a 401K plan and an IRA, you have to take an RMD from each.

So there's a little bit more detail and nuance there to make sure you're following the rules correctly.

Yeah.

And so like what happens, let's say, let's say, one of our listeners or myself, I'm not working with a financial planner, and what happens if I miss an RMD or under withdraw?

Yeah.

So it, again, because you're reporting this, uh, on your tax returns, eventually it will catch up.

Uh, there used to be a pretty hefty penalty, it was 50% of the unmet amount was pe- was part of the, uh, penalty for not meeting a required distribution.

Those have come in a little bit.

And I will say we're seeing a little bit more leniency from the IRS in terms of those who may have missed a payment or, you know, did it a little late at the en- you know, missed the 12/31 date to get it done.

They, you know, did it—Hm.

At the end of the year, it trickled in the next year.

So we're seeing a little bit more leniency from the IRS, but I think the current penalty is now 25%.

Um, so again, you wanna make sure you get it done.

Most, uh, financial

Again, if you're working with Strategic, we are double-checking or triple-checking to make sure those amounts are done.

Um, but if you do miss it, yeah, that could be impactful depending on the size of the, the distribution.

Yeah.

Yeah.

So make sure you're working with somebody and paying attention to it.

Yeah.

Yeah.

Um, and then there's also ways to kind of offset some of the taxes through like charitable giving, right?

Correct.

Yeah.

So one of the, uh, unique things that you can do to maybe avoid the entire amount being taxable to you is to do something called a qualified charitable distribution, uh, or a QCD, not to be confused with an RMD.

Uh, that allows you to take up to $100,000 in total out of these pre-tax accounts from, say, an IRA to make charitable contributions.

Mm-hmm.

So if the government or the IRS is saying, "Hey, you're gonna have to take this money and it's gonna be taxable to you," well, one way to avoid the taxes is if you're making charitable contributions already, to use a piece of that to make your charitable donations.

Yeah.

I like that.

Yeah.

And it, and it, that counts, right, as the RMD?

Correct.

Yeah.

That counts as part, for filling part of your RMD.

And until the most recent legislation, it was a very effective tool.

The standard deduction was higher, um, so itemized deductions were much lower—Mm-hmm.

For people.

Uh, and this was a way to kind of guarantee you were getting a tax benefit from those qualified charitable distributions versus mayt- maybe itemizing it and not getting over that higher standard deduction.

Okay.

Yeah, that's super interesting.

So are there rules that change for like a spouse or a non-spouse beneficiaries for RMDs as well?

Yes.

It's, it's a really important topic with any pre-tax account because there is this taxation that's due, uh, they want to know who's gonna be responsible for that taxation when you p- pass away and leave this asset to someone else.

So, um, typically, if you're married, uh, and you have a spouse, you can leave that account to a spouse, and really, they can inherit that IRA or that pre-tax asset as their own and then just take those m- um, minimum distributions based on their own life expectancy.

But if you do leave it to, let's say, children, now, you know, both spouses are passed, more common an- and due to the, uh, Tax Cut and Jobs Act, um, now a very important topic is understanding the impacts of leaving those assets to the next generation.

And in the pre-tax asset case, e- IRAs, uh, those assets have to be distributed over a 10-year period—Mm-hmm.

Not over their life expectancy.

So that can be a much shorter time period for some people.

And again, now you have to do some more detailed tax planning to understand what their tax situation is and what the best strategy might be over that 10-year window to distribute those assets an- and pay the taxes.

Yeah, I think, you know, with anything, uh, financial, there's a lot of things you have to think about—Yes.

And take in consideration.

And that's why we always recommend a financial planner—Yeah.

And, you know, to, to help you understand all of that.

Yeah, I, I think in a world where a lot of people are saving in their company retirement plans, 401plans, there is a lot of wealth in these pre-tax assets.

And when you, you could be leaving hundreds of 1000, if not millions of dollars to your kids that then have to be forced out over a 10-year period.

So it's a really important topic to understand the implications of that.

Yeah.

Yeah, and so when you're thinking about that and kind of taking steps, I know that, like, there's some things you can do in, like, high-income years in regards to that too?

So a couple things that related to sort of wh- how your income is, uh, is falling, you know, e- either before or after the required minimum distributions kick in.

Um, one of the strategies we look at is, is called a Roth conversion strategy.

So, y- you know, most typically, you'd think, "Well, I'm not gonna take my distributions out of my IRA until I have to or until these required distributions start."

But, uh, if you have a diversified asset mix where you have some pre-tax assets, some after-tax assets, maybe some other income sources, some cash, uh, what we look at is the possibility of actually taking IRA distributions before the RMD—Mm-hmm.

Kicks in and converting those from a traditional IRA to a Roth IRA, actually paying taxes earlier, maybe at a lower bracket than you'd be forced into when those RMDs kick in at age 73 or beyond.

So there's a little bit of a complex strategy there, and it's unique, uh, but it's a way to do a couple things.

1, maybe potentially lower the overall taxability of your portfolio over time, and 2, offset that, uh, topic we just covered, which is leaving a lot of pre-tax, um, money to your kids and having them to pay all the taxes out over 10 years.

It'd be better for them to inherit—Yeah.

A Roth than a traditional IRA.

Yeah, well, I think, Aaron, that's a great start for, for me and—

Our listeners to kind of think about.

And, uh, yeah, I really appreciate you coming in.

Awesome.

Appreciate it, Jay.

Thanks.

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